Is Canada on the Right Path?

Jack Mintz, Palmer Chair in Public Policy at the University of Calgary, wrote an op-ed for the National Post, Affluent Canadians don’t need more government help in providing security for their old age:
With the federal-provincial-territorial Ministers of Finance meeting coming up in December, the semi-annual build-up for CPP reform comes to a head. The latest is a proposal by Prince Edward Island to expand the CPP for “modest” income recipients.

Although it is not easy to find a public version of the PEI proposal, my understanding is it would double the pensionable earnings limit, increase the replacement rate from 25% to 40% for incomes between $26,000 and $52,000 and bring in a new replacement rate of 15% for earnings between $52,000 and $104,000. Employer and employee payroll taxes jump to 3.1% of earnings over the $26,000 threshold. And to make the benefits fully funded, the benefits are increased over time so that the young are not paying for new benefits paid to an older generation – existing retirees will see no increase.

So far, governments are concerned about hiking taxes when the economy is still in a moribund state — that’s the main opposition against CPP expansion at this time. However, it might be useful to ask whether CPP expansion makes sense at all since Canadians will be forced to contribute more money into the CPP fund, putting them on the hook for any future shortfalls.

To begin, a serious question has to be raised regarding the state’s role in providing replacement income for high-income households. Most young households have two-earners so when they retire they will have access to Old Age Security and CPP as well as pensions, RRSPs, TFSAs, housing equity and other taxable assets. Just taking OAS and CPP alone, elderly couples will have at the maximum close to $37,500 in total payments, amounting to a 60% replacement rate for last year’s working income up to $62,000. This is a bit shy of average family income but reasonable once other retirement assets are included.

The PEI proposal would provide replacement income for earnings up to $104,000 per individual. For married couples, this would be over $200,000 in family income. I suspect most would agree that the state should not guarantee replacement family income for earnings well above the average since people have various means to ensure income security during their own planning. The question is, up to what family income level does the state need to provide support? Surely it is not $200,000.

After all, people have to make many choices to ensure that they have adequate retirement income. Most Canadians save enough for retirement — a recent Statistics Canada study suggests that 60% of Canadians actually save too much for retirement. Young people have the pressure of raising families and buying a new home (generally a Canadian’s most valuable retirement asset net of taxes). Increased CPP payments can therefore crowd out other important saving decisions.

Those in the middle class paying more into the CPP rather than holding other tax-sheltered assets earning the same implicit return will be worse off. The current personal income tax provides a miserly tax credit for CPP contributions at the low-income tax rate with the future benefits taxed at higher tax rates for middle and high income families. By forcing people to pay more into the CPP and reducing other investments like housing equity, RPPs, TFSAs, and RRSPs, they lose tax deductions under the personal income tax (I do wonder if union members understand this tax cost to them since RPPs are often integrated with the CPP). This could be fixed by making CPP contributions deductible from income but at a significant cost to governments.

Caution is called for. I personally supported some expansion in the CPP that would help those with modest middle incomes as well as reduce future GIS payments for those currently protected from poverty. I am no longer convinced that CPP expansion is the right focus for policy. Here is why.

As a result of earlier studies, we’ve all become convinced that we have solved the poverty problem for the elderly. Perhaps that is true for couples but not singles.

Phil Bazel, a research colleague, and I have looked at incomes of elderly families of different types. Almost 40% of the total elderly population are married couples (both 65+) with a poverty rate of only 1.9% (based on an average low-income cut-off income of roughly $20,000 — which is net of taxes and includes government transfers. But another third of the elderly population population are singles living alone. Among those singles, about 20% are below the low income cut off of $16,000.

In my mind, this suggests the real financial problem facing older Canadians occurs when they are alone. Females dominate the single elderly need since many raised families and thus have logged fewer years of work. Males also typically die at a younger age. When a mate passes away, an OAS payment disappears and CPP spousal benefits are reduced to 60% of the spouse’s CPP benefits (GIS payments at least provide a buffer).

CPP expansion therefore inefficiently deals with income security since many two-earner families have less need for support. Public policy should focus on the single-elderly, whether by revamping the GIS for singles, increasing CPP spousal benefits or some other policies. And governments should get on the right track before forcing people to put more money into something they may not need.

Protecting Canadians from poverty is a legitimate role for the state; helping above-average-income families protect their incomes is not.
I thank Jack Mintz for publishing this article and actually agree with him on one issue, Canada is failing miserably to support single elderly women during their retirement years and the focus should be on this subset of our population. And he's right, CPP expansion would do little to help these women get out of poverty.

But I disagree with his other comment that expanding the CPP is bad because it forces people to pay more into the CPP, reducing other investments like housing equity, RPPs, TFSAs, and RRSPs, and they lose tax deductions under the personal income tax. So what? I think this is a good thing. RRSPs are a miserable failure and even though I personally love TFSAs (tax free gains are the best!!!), they are a failure too because most Canadians are not saving and when they do contribute, they get eaten alive on fees by closet indexers.

As far as Canada's housing bubble, it keeps defying gravity but this too will come to an abrupt end. I know, there are millions of rich Chinese, Russian and Middle Eastern immigrants that will keep buying luxury condos for their kids to study in Canada and second homes for an insurance policy, but they will get clobbered along with everyone else investing in Canadian real estate at these prices.

Yesterday, I attended a conference in Ottawa sponsored by the University of Calgary's School of Public Policy and CIRANO. The speakers included Jean Charest, the former Premier of Quebec who now works at McCarthy Tétrault, and David Dodge, one of the best Governors the Bank of Canada ever had (although I think Steve Poloz will be another great one). Among the attendees, I saw Bob Baldwin, a former board of director at PSP Investments, Jean-Claude Ménard, Canada's Chief Actuary, Alain Giguère, an NDP member of Parliament, Bernard Morency, the Caisse's Executive Vice-President, Depositors, Strategy and Chief Operations Officer, and Henri-Paul Rousseau, the former President and CEO of the Caisse (Rousseau had tears of joy when he saw me or more likely, a bad Caisse of heartburn).

I sat next to Bernard Dussault, Canada's former Chief Actuary, and the most knowledgeable person on pension policy in our country. If you're a union or government wanting to reform your pension plan for the better, you should contact him via email ( as he does independent consulting work. What I like about Bernard is that apart from being an outstanding actuary, he's highly ethical and will never renounce his principles no matter what. He also has a great sense of humor.

We shared quite a few personal anecdotes and realized that we have a lot in common. He also promised to write a blog comment with his thoughts on improving our pension system. He told me that New Brunswick's pension reforms are not shared risk. "What the government calls risk sharing is more risk dumping" (Bernard is referring to the cost of living clause the reforms introduced).

It was a great little conference and I was disappointed not to see any current presidents of Canada's top ten (think many of them were in Toronto for Jim Leech's retirement party). Bob Baldwin told me he saw Gordon Fyfe, PSP's President and CEO, on Wednesday at PSP's annual public meeting 2013. Bob made me laugh so hard when he said "all three of us attended" (actually, it's sad that nobody attended but PSP did a lousy job advertizing it. If I knew, I would have attended. Guess they didn't want tough questions on their hefty payouts, which were merited but obscene by the standards of most Canadians and federal government civil servants).

I think the presentation that got a lot of us thinking was the one by Kevin Milligan, an associate professor of economics at the University of British Columbia. He argued convincingly that lower income Canadians are better off in retirement now and forcing them to pay more into the CPP will leave them worse off. You can read the paper he co-authored with Tammy Schirle of Wilfrid Laurier University by clicking here. The two main conclusions of their paper are:
1) CPP reform that expands coverage for lower earners can do them harm--it transfers income from a period they are doing poorly (while working) to one in which they were already doing better (retired).

2) An expansion of the CPP that simply expanded the year's maximum pensionable earnings (YMPE) upwards would have nearly the same impact on combined public pension income as the PEI proposal, but with greater simplicity.
Fabrice Morin of McKinsey & Company presented thorough bottom-up evidence on which group of Canadians are ready to retire. You can download McKinsey's paper, Are Canadians Ready For Retirement?, by clicking here.

Professor Jim Davies of the University of Western Ontario, spoke on payroll taxes and their effects on the economy. He shared this with me:
If CPP enhancement has effects on the macroeconomy they will come through impacts on saving and employment. Empirical studies in Canada, the U.S. and Europe suggest that for every dollar of contributions to an unfunded mandatory public pension system, private saving declines by about 30 to 40 cents. Since the general expectation is that CPP enhancement would be funded, this displacement effect will be more than offset by increased public sector saving that will channel funds to the CPPIB. For a dollar of new contributions we can expect that national saving will rise, perhaps by 60 - 70 cents.

This should lead to a higher capital stock and more growth in the long-run, assuming that a reasonable share of the extra CPPIB funds are invested in Canada. Employment effects can be expected in the short-run if, as has always been the case, higher contributions are split between employers and employees. In the long-run, empirical studies indicate, the employer portion will be almost completely shifted onto workers. But in the short-run unit labour costs will rise, causing some reduction in employment. Fortunately the effect is relatively small, and can be reduced by phasing increased contributions in slowly over a number of years.
The afternoon session featured speeches by David Dodge, Jean Charest and Janice MacKinnon, the former Minister of Finance of Saskatchewan who is now a professor of fiscal policy at the University of Saskatchewan.

David Dodge said he was all for DB plans and emphasized the importance of risk sharing and multi-employer plans to address pension portability. I agree with risk sharing, not risk dumping as Bernard Dussault calls it, but I'm not a big fan of hybrid or multi-employer plans. 

Importantly, if we get companies out of the business of managing pensions and enhance the CPP, pension portability wouldn't be an issue and we wouldn't need these multi-employer plans which severely underperform our large Canadian public pension funds.

Ms. MacKinnon praised the earlier presentations and basically concluded that we shouldn't tinker with the CPP. She is an advisor to Jim Flaherty, Canada's Minister of Finance, who is way behind the curve when it comes to pension reforms. He should stop pandering to the financial services industry and heed the warnings of Ontario Premier Kathleen Wynne.

Mr. Charest spoke eloquently about the reforms his government introduced in Quebec to help older workers remain in the workforce and allow more women to enter the workforce. His government also implemented reforms to improve daycare and support parents raising their young infants. He said the birth rate in Quebec is now the highest in the country which is why he's the "father of a nation" (Haha! Wish he was still our leader instead, more charter of values nonsense!)

Mr. Charest also made an excellent point that Canadians are not only living longer, but the quality of life has drastically improved for our seniors and this is redefining the way we view retirement. He said that the provinces basically run the country and that policy must encourage older workers to stay in the workforce.

I told all three of the afternoon speakers that I agree with Bernard Dussault that we overly complicate pension policy instead of keeping things simple. Canada has some of the best public pension funds in the world and we should build on their success, not try to reinvent the wheel or introduce policies that are doomed to fail. Also, we need to recognize the benefits of DB plans to our economy and bolster them for all Canadians.

Again, I think all the speakers and attendees of this conference need to take the time to read The Third Rail, the book Jim Leech co-authored with Jacquie McNish. I gave my personally autographed copy to Jean Charest at the end of the conference and told him to read it and spread the word. If I had more copies, I would have given one to David Dodge and Janice MacKinnon.

I will edit this comment as needed over the next few days. I really liked the concluding remarks from Jack Mintz and hope to add them here.

Below,  Jim Leech, President and CEO of the Ontario Teachers' Pension Plan, discusses the three fundamental changes needed to drive meaningful pension reform. Listen to him carefully and make sure you buy The Third Rail. It's too bad Jim isn't running for office, he would make a great Minister of Finance.